PAYING FOR LONG-TERM CARE
by: Begley Law Group
by Thomas D. Begley, Jr., CELA
Financing Long-Term Care
There are five ways to pay for long-term care:
- Private Pay. The patient or resident simply signs a monthly check.
- Long-Term Care Insurance. Long-term care insurance is the best way to pay for long-term care, but only about 8% of the American population has long-term care insurance. Once someone has a diagnosis of Alzheimer’s, they will no longer be medically eligible for long-term care insurance. Financial Advisors and Attorneys should encourage their clients to purchase long-term care insurance while they are in their 50s. The premiums are less expensive and the client is likely to pass medical underwriting at that time.
- Medicare. Medicare pays very little for Alzheimer’s patients because Medicare only pays for skilled care. Generally, Alzheimer’s patients only require custodial care.
- Veterans Benefits. Certain Veterans and spouses of those Veterans are eligible for Veterans benefits that include federal VA nursing homes, Veterans Aid and Attendance benefits, and state VA benefits. Veterans Aid and Attendance is a monthly check that varies depending on family situation and financial situation as well as the type of service performed by the Veteran.
- Medicaid pays for 40% of long-term care in the United States. Basically, there are four tests for Medicaid eligibility: (1) a medical test, (2) income, (3) transfer of asset test, and (4) resource limits. There is a five-year lookback for Medicaid transfer of assets, so planning should be done long in advance.
No analysis of financing long-term care would be complete without a discussion of the tax implications of various courses of action.
- Income Tax
- Personal Exemption. Generally, taxpayers are entitled to a personal exemption amount of $4,050 for 2016.
- Medical Deduction – Client. The IRS permits an income tax deduction for medical expenses. Medical expenses include qualified long-term care services. Qualified long-term care services are defined as “necessary diagnostic, preventive, therapeutic, curing, treating, mitigating and rehabilitative services, and maintenance and personal care services, which (1) are required by a chronically-ill individual, and (2) are provided pursuant to a plan of care prescribed by licensed health care practitioner.” A chronically ill individual is a person certified by a licensed health care provider as being unable to perform two activities of daily living for a period of at least 90 days or requires substantial supervision to protect himself from threats to health and safety because of severe cognitive impairment. The activities of daily living are defined to mean “eating, toileting, transferring, bathing, dressing and continence.” The Conference Report notes “It is intended that an individual who is physically able, but has a cognitive impairment such as Alzheimer’s Disease or other form of irreversible loss of mental capacity, be treated similarly to a person who is unable to perform at least two activities of daily living.”
A taxpayer can claim an itemized deduction for unreimbursed medical expenses to the extent such expenses exceed 10% of adjusted gross income. For individual age 65 and older, the threshold is 7.5% until December 31, 2016.
If an individual is institutionalized, an issue may arise as to whether room and board is deductible for medical expenses. The question frequently arises if an individual has resided in an assisted living facility. The answer is that such expenses are deductible if a principle reason for the individual’s institutionalization is to receive medical care. The costs of meals and lodging are necessary incidents to medical care and are deductible.
- Medical Deduction – Relative. A person can claim a medical deduction for medical expenses paid on behalf of a relative, if the person provided over half of the relative’s total support for the calendar year. The person can deduct the medical expense of the relative, even if the person cannot claim the personal dependent exemption because the relative received excess gross income.
- Asset Transfer
- Carryover Basis. In determining which assets to transfer and which assets to retain, consideration must be given to the fact that the donee of a gift receives a “carryover basis.” This means that the cost basis of the donee is the same as the cost basis of the donor. Therefore, when the transferred assets are sold, the donee must pay capital gains tax. The best strategy is, usually, to transfer unappreciated assets to the donee, and reserve appreciated assets for the donor. That way, any gain on the sale of the appreciated assets can be offset by deducting the cost of the nursing home from income tax. An alternative strategy is to transfer the appreciated assets to a trust designed to preserve the step-up in basis on death.
- Step-Up in Basis. Assets forming a part of the estate of a decedent are included in that person’s estate for federal estate tax purposes. The beneficiary of the estate receives a “step-up” in basis with respect to those assets so that the beneficiary’s new basis is the fair market value of the assets as of the date of the death of the decedent.
- Retirement Plan. If a person has a retirement plan, such as an IRA or savings plan, the withdrawal of funds from that account is a taxable event. If some period of private payment for long-term care services is required, it makes sense to use the money in the retirement plan for this purpose. The medical deduction for the qualified long-term services can be used to offset the taxable income resulting from the withdrawal from the retirement plan.
- Deferred Annuity. The withdrawal of funds from a deferred annuity is a partially taxable event. That portion of the payment representing the initial purchase price of the annuity is a return of principal and is non-taxable, but the accrued income is taxable. If some period of private payment for long-term care services is required, it makes sense to use the money in the annuity for this purpose. The medical deduction for the qualified long-term care services can be used to offset the taxable income resulting from the withdrawal from the annuity.
- Gain on Sale of Home. There is an exclusion from gross income for the sale of a principal residence if the property was owned and used by the taxpayer as the taxpayer’s principal residence for two of the five years preceding the date of the sale. The amount of the gain excluded is $250,000 for a taxpayer filing individually and $500,000 for taxpayers filing jointly. In the case of married couples, the ownership requirement can be met by either spouse, but both spouses must meet the use requirement, and neither spouse can have claimed the exclusion during the two-year period ending on the date of the sale.
- Transfer of an Annuity. If an annuity is transferred for less than fair market value (i.e., a gift), the person making the transfer is treated as having received income for federal income tax purposes equal to the excess of the cash surrender value of the contract minus the investment in the contract. This rule does not apply to gifts between spouses. There is no double taxation, because the transferee’s “investment” in the contract is increased at the time of the transfer. The formula for calculating the tax is in I.R.S. Publication 939—General Rule for Pensions and Annuities; Taxation of Periodic Payments.
- Gift Tax. If transfers are made in excess of $14,000 per person per year, then a Gift Tax Return will have to be filed by April 15th of the calendar year following the date of the gift. There is an annual exclusion for gifts of $14,000 per person per year or less. There is a unified estate and gift tax exemption equivalent of $5,450,000 for an individual and $10,900,000 for a married couple, therefore no tax will be due for gifts that do not exceed the amount of this exemption equivalent.
- Estate Tax. For 2016, there is a $5,450,000 exemption from federal estate tax. Moreover, this exemption is now portable, so that the surviving spouse can use any portion of the exemption not used by the first spouse to die.